Taxation System in India: Understanding the Indian Tax Structure

Taxation is a major part of every individual’s life. Every year, you rush during the filing season to collate information regarding the income and expenses shown in the books for taxation. Being an inevitable aspect of financial planning, you also look for tax saving funds to invest in so that you can save the hard-earned money on which you pay taxes. You have been paying taxes for years and years now. But have you ever wondered about what it is and how it all began?

The Origins of the Indian Tax System

Tax is the money you pay to the government for the use of state services. It is a source of revenue for the government, which is used to provide you with better infrastructure and other facilities. Since an efficient and just tax system leads to the provision of top-notch services for the citizens, increase in GDP, and boost in the economy, it is of vital importance to the country.

The origin of the taxation system in India can be traced back to ancient times, way before independence. References to tax can be found in renowned Indian scriptures like the Manusmriti and Arthashastra, the books of law and economics, respectively. Both lay down methods of imposing taxes, as well as the importance of a fair tax system for the welfare of the state and its beings.

From then until now, taxation has come a long way. The official tax system was introduced in the 1800s. Let’s look at the history of taxation!

Brief History of Taxation in India

Manusmriti and Arthashastra

The earliest source of tax in India, Manusmriti, suggests the king collect and regulate taxes in a manner that is fair on the subjects. As per provisions mentioned in it:

• Traders must pay 20% or 1/5th of their income
• Artisans must pay 20% or 1/5th of their income
• Agriculturists must pay 1/6th, 1/8th, or 1/10th of the crop produce, depending on the circumstances

Laid down in the 3rd century BCE, the Arthashastra deals with the subjects of politics, economics, military and defence, and state functioning, to name a few. The book mentions that the affluent pay high taxes as compared to the less privileged. It also flattened the tax rate for agriculturists at 1/6th of the land produce. Moreover, it mentions taxes regarding the import, export, tolls, and income tax during emergencies.

Income Tax Act 1860

While ancient texts play a crucial role in the evolution of taxation in India, the income tax system as we know it today first came into the picture in the year 1860. It was introduced by Sir James Wilson during the British era in the country. The taxation policies were formed to compensate for the loss to the British government of the time during the military mutiny of 1857.

As per the Act, the income was divided into four sections - from landed property, from trade and profession, from salary and pension, and from securities. Some of the best tax-saving investments of today, such as life insurance premiums, were exempted from tax even then.

Income Tax Act 1886

In the year 1886, the Indian Income Tax Act was passed. Since then, the tax laws have witnessed constant revisions from time to time. Under this, the tax was levied on income from four sources including, income from salaries, pensions and gratuities, company net profits, interest on securities, and from other sources.

Income Tax Act 1918

A novel Income Tax Act was passed in April 1918, which introduced several changes to the previous Act. Among the various amendments, the deductions and receipts of casual or not recurring in nature that occurred during business and professional transactions were also taken into account while computing taxable income.

Income Tax Act 1922

A milestone that led us to the current tax structure and laws is the Income Tax Act passed in the year 1922. It not only provides flexibility to the income tax structure in India but also helps build a proper administration system for tax in India. It remained in force until the year 1961.

Income Tax Act 1961

After the innumerable amendments to the previous laws, the Income Tax Act was passed in consultation with the Ministry of Law in 1961. Applying to the whole of India, which includes Sikkim and Jammu and Kashmir, the Act was brought into effect from the 1st of April 1962. Along with this, the Central Board of Revenue was divided, giving birth to the Central Board of Direct Taxes (CBDT).

Currently, the calculation of your taxable income, the tax slab you fall into, the taxes you pay, and the tax-saving funds you choose are all determined as per this Act of 1961. According to this Act, presently, tax is imposed on income belonging to five different heads:

• Income from Salary
• Income from Business or Profession
• Income from Capital Gains
• Income from House Property
• Income from Other Sources

Every year during the Union Budget session, the tax implications change for each category of people with the motive to fuel government operations directed toward better services for you. As per the latest revisions, tax for individuals, HUF, and NRIs with an income below ₹2.5 lakh is exempt. Moreover, senior citizens aged above 75 years are exempt from filing tax returns, thanks to the recent COVID 19 crisis.

While you have the option to choose tax payment based on old and new tax regimes at present, both of them offer certain exemptions and deductions to help you increase your savings. This includes the best tax saving investments like life insurance premiums, maturity payouts in certain cases, ULIPs, provident fund, national pension scheme, house rent allowance, etc.

With India going through dynamic changes, the tax structure of the country is bound to witness refinements to suit people’s needs. That being said, make sure you leverage tax saving funds and plan your taxes to make the most of your income, as well as the provisions made by the government for you.

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The income tax is levied on all earning individuals who fall under a taxable income bracket. The income tax is paid to the Government of India and is charged annually. However, there are several tax deductions and exemptions that you can claim to lower your tax liability. The Income Tax Calculator helps you ascertain your tax output for a financial year based on your taxable income. This can help you plan well and save tax using the tax-saving deductions and exemptions, if possible.